Treasury yields jump after Fed sticks with debt-buying plans

Traders also juggling U.S. debt sale, issuance plans, GDP data

By

DeborahLevine

NEW YORK (MarketWatch) -- Treasury prices turned lower Wednesday, pushing 10-year note yields to their highest level since November, after the Federal Reserve disappointed some investors by making no changes to its plans to buy Treasurys, mortgage-backed securities and housing agency debt.

Longer-dated bonds were also under pressure from the day's note auction and news from the Treasury Department on coming debt issuance, which will draw the Fed's current buying plan. Shorter-term debt was buffered by weak data on the U.S. economy and the prospect of low benchmark rates for some time.

The yield was holding just above 3% before the statement came out, a level not seen since mid-March when the Fed surprised markets and announced plans to buy $300 billion of Treasury securities in an effort to keep lending rates low and spur economic growth.

Traders were closely watching whether 10-year yields would top 3.05% -- a technical level that may prompt even more selling.

So far, the Fed has purchased almost $70 billion in Treasurys under the program.

Treasurys are benchmarks for corporate debt, mortgages, consumer-loan rates on things like automobiles, and municipal debt, so keeping yields low is intended to make borrowing on all of those more affordable.

The premium that companies have to pay and mortgage-backed debt has to offer to find buyers has compressed in recent months. That shows that even as the Treasury yields that serve as benchmarks have crept up, the ultimate yields on the other kinds of debt are comparatively low -- which is what the Fed is actually after.

"The Fed is not all that concerned where levels are because spreads are all a lot better," said Jason Brady, who helps oversee about $6 billion in fixed-income assets at Thornburg Investment Management. "They've done a lot of work to get rates lower and it's definitely working."

Treasury yields will head higher, as they are about a full percentage point too low, Brady said.

Separately, the New York Fed released its schedule of Treasury buybacks, announcing another five operations in the next two weeks. See the Fed's buyback schedule.

Meanwhile, 2-year note yields
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declined 8 basis points to 0.93%, staying down as the central bank confirmed it would keep benchmark interest rates at "exceptionally low levels" at a range of 0.25% to zero for an extended period.

The Federal Reserve Open Market Committee said the economic outlook has improved but it's likely the economy will remain weak for some time. See more on the Fed meeting.

"The Fed is not going to move away from low interest rates for a while," Michael Franzese, head of government bond trading at Standard Chartered, said before the statement was released. That will keep shorter-term rates lower relative to longer-term yields, he said.

Yield curve

Ten-year notes now yield 2.16 percentage points more than 2-year debt. That gap is the highest in at least five months, steepening the so-called yields curve that charts the spread between the two securities.

The shorter maturity has been anchored by the Fed's benchmark rate. Longer-dated debt has been susceptible to expectations of more debt issuance in longer maturities and that improvement in economic data, the outlook, or equity markets reduce the appeal of fixed income assets.

Longer-term debt is also subject to vacillating concerns that inflation will roar back when the economy recovers, raising investor demand for higher yields to compensate for that.

Supporting bonds earlier, data showed the U.S. economy shrank more than forecast in the first quarter, adding to the appeal of bonds as an alternative to assets more closely tied to economic growth.

U.S. gross domestic product fell at a 6.1% annualized rate in the first quarter, the Commerce Department reported.

This was much steeper than economists had expected -- and the two-quarter contraction in GDP is the worst in more than 60 years. See more on GDP report.

More and more debt supply

Also in the mix, the Treasury Department sold $26 billion in 7-year notes to yield 2.630%.

The yield was a little higher than some traders expected. The auction's timing just before the Fed announcement could have increased uncertainty among investors, increasing the yield required to complete the sale, said John Spinello, Treasury strategist at Jefferies & Co., in an earlier note.

The government began reissuing 7-year notes in February, after a 16-year hiatus.

Bidders offered $2.22 for every dollar issued, compared to $2.32 on average at the last two monthly auctions. Indirect bidders, a group of investors that includes foreign central banks, bought 33%, in line with the last two auctions. See the Treasury's press release on the auction.

The yield on the existing 7-year note rose 7 basis points to 2.64%.

Already this week, the Treasury sold $40 billion in 2-year notes and $35 billion in five-year debt
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Earlier, the Treasury Department said it will sell $71 billion in debt next week, a record for its quarterly refunding auctions. Read more on refunding.

Analysts at Wrightson ICAP had expected a package of about $72 billion.

The Treasury also said it plans to add a second regular reopening of the 30-year bond, as several analysts predicted, in order to facilitate the selling of increasing amounts of debt to finance various government and central-bank programs aimed at stimulating the economy. In practice, this means that there will be a 30-year bond auction every month.

Traders were also watching for the possibility that the U.S. was considering issuing a 50-year bond, which would be by far the longest-dated debt it sold. See full story.

In response, a Treasury official said Wednesday the department doesn't "feel the need for additional maturity points."

The Treasury's advisory committee, made up of investment funds and bank officers, said they discussed the possibility of issuing 50-year bonds, as well as other new maturities, but recommended against it in favor of selling larger amounts of existing securities. See more on the refunding at the Treasury's website.

They also said issuing 50-year debt would likely be very expensive for the government, offsetting any benefit of spreading out issuance.

Thirty-year bond yields rose 6 basis points to 4.02%.

In other bond news, a handful of companies were pricing new debt Wednesday, including Goldman Sachs
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The firm was selling $2 billion in 5-year bonds, according to Informa Global Markets.

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